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This year’s market rout has probably left you with a lot of losers in your portfolio. But look on the bright side: Selling a losing asset by December 31 can be a great way to rebalance your portfolio and save on taxes.
Although you might be dreading looking at the shrunken balances on your brokerage and mutual fund statements, a quick review now could pay off big when you file your 2008 taxes next year.
If you hold an asset for at least a year and a day and sell it at a profit, it's a long-term capital gain taxed at a favorable top rate of 15%. Sell that same asset at a loss, and it's a long-term capital loss, which can offset capital gains dollar for dollar.
What if losses -- including any unused losses carried over from 2007 (check last year's Schedule D) -- exceed your gains so far in 2008? That presents you with the opportunity to cash in some winners without increasing your tax bill. If you want to move some money around in your portfolio or think it's time to pull money out of stocks or funds, you can sop up gains you score by the losses you've already incurred.
You first must use your capital losses to offset set capital gains, if any. After that, you can use $3,000 of additional losses to offset other kinds of income, such as your salary Ironically, that means excess losses are extra valuable. Instead of offsetting long-term gains that would be taxed at 15%, for example, they can offset income in your top tax bracket -- as high as 35%. Excess losses can be carried over to the following year.
One word of caution: This strategy applies only to your taxable investment accounts, not your tax-deferred retirement accounts, such as IRAs and 401(k) plans.
Some investors will be able to capture tax-free profits without harvesting losses, thanks to a new provision that allows people in the two lowest income-tax brackets to pay nothing on long-term gains in 2008. The 0% capital-gains rate applies to married couples with taxable income of $65,100 or less; single heads of households with taxable income of $43,650 or less; and individuals with taxable income of $32,550 or less.
Don't sell your investments for tax reasons alone. But the possible tax rewards make this the perfect time to take a hard look at your portfolio.
POSTED BY: Mike (November 30, 2008 09:10 PM)
A great way to cut taxes but stay invested is to sell individual stocks at a loss and buy industry-specific ETFs. So if you're down in tech stocks, for example, you could sell the stocks and buy a technology ETF. You can also sell index ETFs and buy identical index ETFs from another company without being hit by wash rules.
POSTED BY: Aaron (December 29, 2008 10:42 PM)
HELP! You say that I cannot claim capital losses on tax-deferred plans such as 401k and IRA plans. Well what about Roth IRA plans where I have already been taxed on the contributions? I have several '08 losers in my Roth IRA and I'd love to dump them and claim the losses on my '08 return. Can I do this??
POSTED BY: Mary Beth (December 30, 2008 02:11 PM)
To Aaron, this is the author of the column. In response to your question, special rules apply to losses in Roth IRAs. You would have to close all of your Roth IRAs (if you have more than one). If your total Roth IRA account value is less than your cumulative Roth IRA contributions, that is considered a loss. But you must apply it to your miscellaneous deductions and only the amount in excess of 2% of your AGI can be deducted as a loss. Hope this helps.
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